Financial Ratios: What They Mean In assessing the significance of various financial data, managers often engage in ratio analysis, the process of determining and evaluating financial ratios. A financial ratio is a relationship that indicates something about a company’s activities, such as the ratio between the company’s current assets and current liabilities or between its accounts receivable and its annual sales. The basic source for these ratios is the company’s financial statements that contain figures on assets, liabilities, profits, and losses. Ratios are only meaningful when compared with other information. Since they are often compared with industry data, ratios help managers understand their company’s performance relative to that of competitors and are often used to trace performance over time.
ratio analysis can reveal much about a company and its operations. However, there are several points to keep in mind about ratios. First, a ratio is just one number divided by another. Financial ratios are only ‘flags’ indicating areas of strength or weakness. One or even several ratios might be misleading, but when combined with other knowledge of a company’s management and economic circumstances, ratio analysis can tell much about a corporation. Second, there is no single correct value for a ratio.
... financial analysis such as ratios. Financial ratio analysis is a judicious way for different stakeholders to use for different goals. This paper demonstrates that financial ratio analysis ... use them. Financial ratio analysis is an excellent tool for companies to evaluate their financial health in ... potential problems. Despite the fact that financial ratio analysis can provide imminent problems of the ...
The observation that the value of a particular ratio is too high, too low, or just right depends on the perspective of the analyst and on the company’s competitive strategy. Third, a financial ratio is meaningful only when it is compared with some standard, such as an industry trend, ratio trend, a ratio trend for the specific company being analyzed, or a stated management objective. In trend analysis, ratios are compared over time, typically years. Year-to-year comparisons can highlight trends and point up the need for action. Trend analysis works best with three to five years of ratios. The second type of ratio analysis, cross-sectional analysis, compares the ratios of two or more companies in similar lines of business.
One of the most popular forms of cross-sectional analysis compares a company’s ratios to industry averages. These averages are developed by statistical services and trade associations and are updated annually. Some of these sources will be covered later in this guide. Financial ratios can also give mixed signals about a company’s financial health, and can vary significantly among companies, industries, and over time.
Other factors should also be considered such as a company’s products, management, competitors, and vision for the future. There are many different ratios and models used today to analyze companies. The most common is the price earnings (P/E) ratio. It is published daily with the transactions of the New York Stock Exchange, American Stock Exchange, and NASDAQ. These quotations show not only the most recent price but also the highest and lowest price paid for the stock during the previous fifty-two weeks, the annual dividend, the dividend yield, the price / earnings ratio, the day’s trading volume, high and low prices for the day, the changes from the previous day’s closing price.
The price to earnings (P/E) ratio is calculated by dividing the current market price per share by current earnings per share. It represents a multiplier applied to current earnings to determine the value of a share of the stock in the market. The price-earnings ratio is influenced by the earnings and sales growth of the company, the risk (or volatility in performance), the debt-equity structure of the company, the dividend policy, the quality of management, and a number of other factors. A company’s P/E ratio should be compared to those of other companies in the same industry.
... It also failed to provide industry average dividends to its current stockholders. Market: The price per earnings (P/E) ratio decreased by 4. 2 down ... industry average. The company has enough to cover short term bills and expenses. Both the current and quick ratios are showing an upward trend ...
The following is a listing of some of the ratios to be aware of in analyzing a company’s balance sheet and income statement. These ratios fall into four categories – liquidity, profitability, asset management (efficiency), and debt management (leverage).
How to find information on industries The United States Government is currently in transition between two systems of classifying American industry. The older Standard Industrial Classification Manual (web) lists government SIC codes – 4 digit numbers used to identify industries.
The new system, North American Industry Classification System (NAICS codes) (web) provides common industry definitions for Canada, Mexico, and the United States. This system will be phased in and eventually replace the SIC code. A comparison of the two systems can be found at web Where to find standard financial ratios The following is an annotated list of the ‘standard’s sources of industry ratios. In the introduction of each of these sources, there is a description of how the data for the ratios was obtained and a definition for each ratio is also given. Almanac of Business and Industrial Financial Ratios. Leo Troy.
Englewood Cliffs, NJ: Prentice-Hall, Inc. Annual. (REF HF 5681. R 25 T 7) The source of all data are tax returns filed with the U. S. Internal Revenue Service.
The most recent edition covers approximately 4. 7 million active corporate federal income tax returns, including those owned or controlled by foreign persons. The publication profiles corporate performance in two analytical tables for each industry. Table I reports operating and financial information for all corporations, those with and without net income. Table II provides the same information as Table I, but only for corporations with net income.
Net Income is defined as the total income of the company after all the expenses and other costs from their total revenue. The level of Net Income is very important for the managers since it is the one that will be divided into the shareholders of the company. The higher the net income, the greater would be the capital gains that stockholder would receive. There are instances that even though the ...
It provides 50 performance indicators for each industry. At the end of each industry section, performance indicators for the last ten years are shown. Data are grouped into 16 categories by size of assets in each industry. About 180 lines of business are covered. Norms in actual dollars for revenue and capital factors such as net receivables, inventories, and total assets are given. It also gives average operating costs in percent of net sales for: cost of operations, pensions and benefits, comp.